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Message from Congress on Cross-Border Swaps

Bill to limit the CFTC's cross-border authority faces U.S. House vote, but the Senate isn't expected to consider it.

House lawmakers vote today on legislation that would curb the U.S. Commodity Futures Trading Commission’s (CFTC's) authority to oversee the $633 trillion global swaps market.

The vote takes place as a majority of CFTC commissioners have signaled they want to delay final action on how new derivatives rules apply to foreign banks and the overseas affiliates of U.S. banks and hedge funds. Chairman Gary Gensler insists the agency should take its final vote on the guidance by July 12, when the current deadline expires.

The CFTC will decide how to press forward after the Securities and Exchange Commission (SEC) last month outlined a different approach to regulating swaps that it oversees, which hews closer to industry viewpoints. The House bill would exempt foreign banks from CFTC rules if their home countries have broadly similar regulations and would force the CFTC and SEC to reconcile their approaches.

The House bill isn’t expected to be considered by the Senate, Representative Jim Himes, a Connecticut Democrat on the House Financial Services Committee, said April 25. He voted for the bill when it was approved by the committee last month.

The legislation “is intended to send a message that Congress would like them to delay in order to achieve greater harmonization in the approach to cross-border regulation with the SEC,” said Annette L. Nazareth, a former SEC commissioner and Washington-based partner at Davis Polk & Wardwell.

Bill ‘Premature’

President Barack Obama’s administration said in a statement yesterday that it opposes the bill, adding that its passage “would be premature and disruptive to the current and ongoing implementation of the reforms” required by Dodd-Frank.

The international reach of CFTC swap-trading requirements has been one of the most controversial elements of the Dodd-Frank Act. The CFTC became the predominant U.S. regulator of swaps under the 2010 law, while the SEC was assigned to write rules for equity and some credit-default swaps.

Banks are working under an exemption from the proposed guidance that expires July 12 and have called for an additional delay. CFTC Commissioners Mark Wetjen, a Democrat, and Scott O’Malia, a Republican, have said July 12 is an “arbitrary” deadline. Commissioner Jill Sommers, a Republican, says the exemption should be extended at least another six months.

“I’m working hard at understanding how to finalize a commission cross-border policy, but I’m worried because we’re running out of time before the exemptive order expires,” Wetjen said yesterday. “It is a little arbitrary we’re deciding it must expire July 12. The whole reason for the original date was to match it up with what the Europeans are doing.”

Foreign ‘Failure’

Gensler said last week that the guidance must be finished to avoid banks and hedge funds skirting the rules by “setting up shop in an offshore locale, even if it’s not much more than a tropical island P.O. box.”

The European Union is seeking an agreement with the U.S. that its banks can be exempted from the CFTC’s rules because it says EU standards are equally rigorous. Overseas regulators have called for the CFTC to broaden its use of such “substituted compliance,” which was also incorporated into the SEC’s proposed rule.

Proponents of tighter regulation of financial services argue the House bill would defer oversight to jurisdictions where regulators failed in the past to police risky derivatives trades that helped fuel the financial crisis. Swaps dealers American International Group Inc., Bear Stearns Cos. and Lehman Brothers Holdings Inc. booked their derivatives trades in London. All required bailouts or went bankrupt in 2008.

“This bill would require the CFTC and the SEC to pretend that foreign regulators are doing their job, when the indisputable record is nothing but failure,” said Dennis M. Kelleher, chief executive officer of Better Markets, a financial regulation advocacy group. Kelleher urged the CFTC to implement its approach by July 12.

Six Wall Street trade associations including the Securities Industry and Financial Markets Association pressed the CFTC last week to delay its guidance until the agency has reviewed all correspondence submitted to the SEC about its cross-border swaps proposal. The bank lobbyists said “premature” implementation of the CFTC guidance risks creating fissures with European and other overseas regulations.

“Failing to extend the exemptive order in the absence of final cross-border guidance could increase uncertainty for international market participants,” the lobbying groups wrote in a June 6 letter to Gensler.

Supporters of the legislation say it has bipartisan support in the House and seeks to fix a CFTC approach that applies regulation more broadly than Congress intended in the Dodd-Frank Act. The bill also would require the CFTC to rewrite its cross-border guidance as formal rulemaking, which would cause the commission to start over and give stakeholders another opportunity to weigh in.

A federal judge on June 7 dismissed a suit brought by Bloomberg LP, the parent company of Bloomberg News, challenging CFTC rules setting higher collateral standards for swaps than comparable futures.

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